Critical issues shaping global economic outlook

What is in this article?:

• The good news for the industrialized economies, including the U.S., is that inflation is not a problem.

• The good news for U.S. farmers is that the dollar will continue to depreciate against most currencies over the next few years.

• It is important to point out that the issues are different commodity by commodity. There are specific factors with each commodity that relate to inventories, to production, to supply response and, very importantly, to policies. This is particularly true in the case of agriculture.

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Weather a big problem

There are two special factors here — the first is of course weather which has been a big problem for a lot of agricultural commodities in Russia, Latin America and now in China. Second, bad policies have a also been a problem. I can’t emphasize this enough: there are a lot of bad food policies in the U.S. and other parts of the world that are compounding the food problem. I’ll highlight one example, export restraints on food from Russia and India. The combination of bad weather and bad policies has been the major driving force behind the recent rapid rise in food prices.

On oil prices, I mentioned that we expect the recent spike to be a temporary spike, unless there are major disruptions in Libyan oil production which we doubt. President Clinton talked about oil independence in terms of ethanol policies — but the big game-changer here is not ethanol but unconventional sources of natural gas — shale gas, tight sands and so on. I think this is what is going to change things for the U.S., not ethanol policies frankly.

With respect to the Middle East and North Africa, we are at one of the crossroads in history. The great news is, the transition in Egypt was a peaceful one. Looks like the one in Bahrain may also be peaceful. Unfortunately, the Libyan situation is not playing out peacefully — it is splitting the country. Our best guess is that Gaddafi will step down, but there may be more bloodshed before that happens.

The big countries to worry about are Iran and Saudi Arabia. We’re more worried about instability in Iran because of what happened a year and a half ago, and its very poor economic situation. We’re less worried about Saudi Arabia. Some of you may have seen today’s headline. The king has given a gift to the Saudis of $36 billion. Basically, he’s trying to buy them off. He may succeed.

The Saudis have a lot of money to throw at this problem, so I’m less worried about Saudi Arabia although I think the markets are a little jittery about it. The Saudis will also have to make some meaningful changes in terms of their constitution.

Bottom line: there’s lots of instability in the region, but it’s very unlikely that oil prices will go to $120 or $130 or where they were in 2008.

Meanwhile, inflation is not a problem in the U.S. Let me explain why. With an unemployment rate of around 9 percent, how can we possibly get wage inflation? There are huge amounts of excess capacity in the U.S, so how can we possibly get price inflation? The same is true in Europe and Japan. But we are running out of capacity in countries like China, Brazil, and India, so inflation is a bigger problem there. From that perspective, we are seeing two worlds — a low growth/no inflation world — what I call the “crawling economies” — and a high-growth/high-inflation world — what I call the “galloping economies”.

Even though food and fuel inflation is pushing up headline inflation, core inflation in the U.S. and Europe is still below 1 percent.

Why should we care about core inflation? Core inflation is inflation without food and fuel. People say, what relevance does core inflation have? There is one use for it. It measures the spillovers from food and fuel inflation to the rest of the economy. The good news now (as in 2008) is that there are no spillovers. That’s really good news. And that’s what the fed cares about.

Discuss this Article 1

With all due respect to the speaker, inflation is going to grow (pun intended) into a major concern in the next 12 to 24 months precisely as a result of an overly weak US dollar. The Fed is pushing the dollar artificially low to assuage the DC politicians. We will pay the price for that mis-step quickly and brutally. The real danger is that the Fed will wait far too long to raise interest rates. Also, QE 2 was totally unnecessary. Most of the Fed members acknowledged that they simply had to be seen as trying to do something (even if it was wrong) to further stimulate the economy. American Growers need real purchasing power every bit as much as good prices for their products. The Ag. economy will be one of the first to overheat if the Fed does not make some real adjustments. They do not need to reverse course, they simply need to make minute adjustments along the way. As it stands now, when they make a move, it will be too much too fast. Predictability and consistency need to be balanced with reason to achieve acceptable results. I wish Thomas Hoenig would replace Ben Bernanke as chairman of the Fed. Then we would have a heartland approach to economics.